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What trends should we look for it we want to identify stocks that can multiply in value over the long term? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Although, when we looked at Lynch Group Holdings (ASX:LGL), it didn't seem to tick all of these boxes.
Understanding Return On Capital Employed (ROCE)
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Lynch Group Holdings:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.075 = AU$22m ÷ (AU$365m - AU$71m) (Based on the trailing twelve months to December 2023).
Thus, Lynch Group Holdings has an ROCE of 7.5%. Ultimately, that's a low return and it under-performs the Food industry average of 11%.
See our latest analysis for Lynch Group Holdings
Above you can see how the current ROCE for Lynch Group Holdings compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free analyst report for Lynch Group Holdings .
The Trend Of ROCE
In terms of Lynch Group Holdings' historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 15% over the last three years. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.
On a side note, Lynch Group Holdings has done well to pay down its current liabilities to 19% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.
Our Take On Lynch Group Holdings' ROCE
To conclude, we've found that Lynch Group Holdings is reinvesting in the business, but returns have been falling. And investors appear hesitant that the trends will pick up because the stock has fallen 57% in the last three years. Therefore based on the analysis done in this article, we don't think Lynch Group Holdings has the makings of a multi-bagger.